DBRS Confirms Ratings on Arbor Realty Commercial Real Estate Notes 2015-FL2, Ltd.

DBRS, Inc. (DBRS) has today confirmed the ratings on the following classes of secured floating-rate notes (the Notes) issued by Arbor Realty Commercial Real Estate Notes 2015-FL2, Ltd. (ARCLO 2015-FL1):

-- Class A at AAA (sf)
-- Class B at AA (sf)
-- Class C at BBB (low) (sf)

All trends are Stable. DBRS does not rate the first loss piece, the Preferred Shares held by the Issuer.

The rating confirmations reflect that the performance of the transaction remains in line with DBRS’s expectations at issuance. The pool currently consists of 23 interest-only floating-rate loans totaling $289.4 million secured by 22 multifamily properties and one office property. At issuance in August 2015, the pool consisted of 17 loans totaling $302.6 million secured by 17 commercial properties. The transaction features an initial 36-month replacement period whereby the Issuer can substitute collateral in the pool, subject to certain Eligibility Criteria, including Rating Agency Condition by DBRS. As of the August 2016 remittance, there remains $60.6 million in equity that the Issuer can fund by originating additional loans. After the remaining 24 months of the replacement period, the transaction pays sequentially.

As of the August 2016 remittance, ten of the original 17 loans, representing 50.7% of the current funded pool balance, have paid out of the pool. To date, 13 loans, representing 49.3% of the current funded pool balance, have been added to the transaction during the 120-day ramp-up period and the replacement period.

The loans are secured predominantly by multifamily properties, located primarily in core (urban and suburban) markets, which benefit from greater liquidity, or are affordable offerings in stable communities. Most of the properties are current cash flowing assets in a period of transition, with viable plans and loan structure to stabilize and improve the asset value. All of the loans are structured with cash management in place from origination and are structured with reserves, including several with an initial debt service reserve. Two of the loans in the transaction are highlighted below.

The Windtree Apartments loan, which represents 7.9% of the current funded pool balance, is secured by a 232-unit multifamily property in Midland, Texas. When the loan was originated in Q4 2015, the property was 99.1% occupied with an average rental rate of $1,441 per unit; however, performance in the past 18 months has deteriorated significantly as a result of the decline in demand in the oil and gas industry, which the regional economy is heavily reliant upon. According to the May 2016 rent roll, property occupancy and the average rental rate had fallen to 69.8% and $797 per unit, respectively. According to the servicer, the borrower is currently offering one month of free rent for a 12-month lease. Four comparable properties in terms of amenities and unit size were identified by the servicer, which are reporting vacancy rates ranging from 11.0% to 32.0% and asking rental rates ranging from $886 per unit to $1,181 per unit. Based on the May 2016 rent roll figures, the subject is at the bottom of the competitive set in terms of occupancy and asking rental rates. According to the May 2016 trailing 12-month (T-12) reporting, the net cash flow was $1.2 million, significantly down from the Issuer’s UW figure of $2.4 million and the DBRS UW figure of $1.5 million.

The IO loan was originally scheduled to expire in November 2016; however, the loan was extended to March 2019. Terms of the extension include a decreased interest pay rate of 2.5% plus LIBOR (interest accrues at 5.0% plus LIBOR), four required principal payments totaling $1.5 million through April 2018 and the distribution of any excess cash flow beginning on April 30, 2016, and thereafter on each July 30, October 30 and January 30. The borrower also executed a payment guaranty in the amount of $5.1 million and has paid down the balance of the loan by $2.6 million since issuance. While the partial principal repayment of the loan is a positive development, the long-term viability of the property and region is dependent upon the oil and gas industry rebounding. As a result, DBRS has modeled the loan with a stressed cash flow based on the May 2016 T-12 reporting.

The Redford loan, which represents 8.7% of the current funded pool balance, is secured by an 856-unit multifamily property in Houston, Texas. The borrower purchased the property in February 2015 and invested $1.3 million into the property to complete various exterior renovations and to upgrade 276 unit interiors, which included new flooring, appliances, countertops, fixtures and more. At purchase, the property was 94.0% occupied with an average rental rate of $710 per unit. In February 2016, the borrower refinanced the loan in order to complete interior renovations on the remaining units, reserving an additional $2.6 million to complete the outstanding units. At the time the loan was refinanced, property occupancy had dropped to 74% as a result of the ongoing renovations and the eviction of late and non-paying tenants; however, the average rental rate had increased to $741 per unit.

As of May 2016, the borrower has spent $1.2 million of the $2.6 million budget, completing updates on an additional 304 units as well as repairing foundation pilings, resealing and restriping the parking lot and adding 40 carports. The remaining 196 in-unit renovations are expected to be completed by August 2017. Occupancy remains at 74%; however, the average rental rate for renovated units is $925 per unit, compared with the average rate of $710 per unit for non-renovated units. According to Reis, properties in the Interloop/South Houston submarket are reporting average vacancy and rental rates of 2.6% and $832 per unit, respectively. As renovations are finished over the next year, DBRS expects that the property will lease up to a stabilized occupancy prior to the loan’s February 2018 maturity.

The Issuer, Servicer, Mortgage Loan Seller and Advancing Agent are related parties, a non-rated entity. In addition to recently issued transactions (one in 2013, one in 2014 and two in 2015) Arbor Realty SR, Inc. (Arbor) has a proven track record with several collateralized loan obligation platforms that performed well in 2004, 2005 and 2006. Arbor initially holds the 23.5% equity of the Preferred Shares in the transaction.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodologies are North American CMBS Rating Methodology (June 2015) and CMBS North American Surveillance (December 2015), which can be found on our website under Methodologies.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

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